One of the most common questions we receive is whether a gift given or received will be subject to gift or estate taxes. The short answer is usually “no” but read on to gain a better understanding of how gifts are tracked and taxed in the United States.
The Annual Federal Gift Tax Exclusion
During 2023, any person may give up to $17,000 to an unlimited number of individuals with no reporting requirement. This amount is commonly known as the annual exclusion. As long as the value of the gift(s) is $17,000 per individual or less, there is no filing requirement. Married spouses may transfer up to $34,000 to an unlimited number of individuals.
For example, Mr. Smith may give $17,000 each to his aunt, uncle, cousin, daughter, son, and his neighbor with no reporting requirement. However, if Mr. Smith gives each of these individuals $17,100, Mr. Smith must file an additional tax form to record the gift. The reporting does NOT make the gift taxable to Mr. Smith or to the recipient of the gift.
The Unified Credit
Commonly referred to as the lifetime estate and gift tax exemption, the unified credit amount in 2023 is $12,920,000. Under current law, the amount is indexed for inflation and increases annually. The unified credit is the maximum amount that an individual may give either during their lifetime or at death without incurring gift or estate taxes. Each American citizen is entitled to utilize their own unified credit amount. Therefore, married spouses could give or transfer up to a combined $25,840,000 without incurring gift or estate tax!
As you can see from the huge unified credit amount, it is highly unlikely that gifts will be subject to estate tax as a result of the size of the gift.
It is beyond the scope of this post, but it is worth noting that gift taxes and income taxes are not the same thing. Income tax on an estate or an inheritance is not uncommon, but it is NOT estate tax that is being levied.
Gift Tax Reporting
Amounts given in excess of the annual exemption amount triggers the need to file a gift tax form with your individual tax return. The excess gift amounts are netted against your lifetime unified credit.
For example, Mr. Smith gives $50,000 in cash to his neighbor. $17,000 of the gift is covered by the annual exemption amount, leaving $33,000. The remaining $33,000 is recorded against his $12,920,000 unified credit when he files tax form 709. As a result, Mr. Smith may gift an additional $12,887,000 during life or at his death. Neither Mr. Smith or his neighbor owe taxes on the gift.
Common gift tax conundrums
- Gifts for college. Grandparents often help with the tremendous expense of funding a college degree and amounts donated can quickly surpass the annual gift threshold. To avoid the gift tax problem, consider making payments directly to the college as this form of payment can be excluded from the annual gift giving limit as long as the funds are used for tuition.
- Be careful with 529 plan funding. If your children are anticipating going to college, you may consider creating a 529 college savings plan. However, remember the deposits into 529 accounts are considered a gift and count toward the annual gift exemption.
- Gifts to cover medical expenses. If you’re helping a loved one meet medical expenses, you are making gifts to the individual. It can add up quickly. Making payments directly to health care providers for medical services on behalf of the patient avoids the gifts counting toward the annual exemption or the unified credit.
- Gift of real estate. If you give property to a relative for little or nothing in return, it may trigger the requirement to file Form 709 to record the gift against your uniform credit. Recent IRS studies suggest over 50% of taxpayers fail to declare property transfers as gifts.
Other things to consider
- You may provide gifts to or receive gifts from ANYONE. There are no limits or restrictions on who you may give a gift to or who may provide a gift to you. Creative gift giving can be a useful tool to help someone in need without creating a tax obligation.
- Remember that ALL gifts given to any individual throughout the year are added together. If you provide a gift for the maximum allowable amount to an individual, any other gifts to this person during the year would exceed the annual exemption and require filing a gift tax form. For example, a grandmother gives $17,000 to her granddaughter for college. She also pays for a vacation trip to send the family to Disney World and provides a wonderful birthday gift. The additional gifts are in excess of the annual limit and require filing Form 709.
The IRS is paying attention to the significant non-compliance in the timely filing of the annual gift tax form. So much so that it is actively researching property transfers in key states to ensure the gift tax filing is taking place. Prior to giving gifts of significant dollar amounts, we encourage you to consult with your tax professional, financial advisor, and estate planning professional.